The Dell (DELL) deal has caught many an investor by surprise, namely because the deal would be the largest in recent history. Bloomberg estimates the buyout as the largest of a tech company since 2007 and the largest in the computer industry since HP bought Compaq. Although the deal would be sizable, reports speculate that Silver Lake Management could be close to lining up nearly $15 billion for the Dell buyout. Silver Lake would be joining forces with RBC, Credit Suisse, Barclays and Bank of America to put the deal together.
The price and product competition in the computer industry has become fierce and differentiation has become limited. With Dell losing market share to the likes of Apple (AAPL), Hewlett-Packard (HPQ) and Lenovo Group (LNVGY.PK), the computer maker now wants to focus on higher-margin services and products for corporations. Gartner puts Dell's market share falling from 12.2% to 10.2% during the fourth quarter, and by going private, Dell would be able to diversify away from its struggling PC business without the scrutiny of the public markets. Billionaire Ray Dalio of Bridgewater Associates and Ken Griffin - founder of Citadel Investment Group - are two of the many hedge funds still invested in the struggling computer company who would make big money on a buyout (check out all the hedge funds in love with Dell).
The potential buyout deal, as of now, would be somewhere along the lines of:
With a 30% buyout premium - pre announcement per share price was $10.88 - the cost to take Dell private would be upwards of $22.0 billion. In the 30% premium case the price to shareholders would be around $13.80 or a 6.5% premium from the current stock price. This is still a pretty good deal for shareholders just getting into the stock. Other sources suggest that the worst-case buyout price would be $13.50 per share (read more about the Dell buyout). The $13.50 per share number is a 24% premium to the pre-announcement price, and still 4% higher from its current price.
Requiring nearly 30% as a down payment would mean the cash down would be close to $7.17 billion. With Michael Dell owning upwards of 245.2 million shares he could roll in $3.1 billion into the deal. This would still leave $4.1 billion in required financing. Bloomberg notes that Silver Lake just raised a $7 billion fund that will be focused in the tech sector. There has been much speculation about the low probability of the deal being done given the deal size, but Silver Lake sees the deal as all but done. Michael Dell also has over half a billion dollars being managed by Glenn Fuhrman and John Phelan. Dell founded MSD Capital in 1998 to manage his personal funds (check out what else Dell owns).
Who would sweep in and be a savior if the private equity deal fell through? The speculation that Oracle (ORCL) could buy Dell has been influx for a couple years now; Oracle has over $33.6 billion in cash. Oracle and HP are already head to head in the server business, following Oracle's acquisition of Sun Microsystems.
The real driver behind the deal is Dell's low valuation. Dell is one of the cheapest in the computer industry, right along with HP.
Price to Earnings (next year earnings)
Price to Sales
Price to Operating Cash Flow
With HP being so much cheaper, would an HP buyout be better for private equity firms? Similar problems, if not greater, would arise with an HP buyout, related to the sheer feasibility given the enterprise value. The enterprise value for HP is over 50% that of Dell and the HP CEO does not own 15% of the company, like Michael Dell. The potential Dell deal should remind investors of the similar buyout speculation surrounding Best Buy (BBY), where founder Richard Schulze, who owns 20%, is trying to put together a levered buyout of the retailer. Best Buy's stock price has fallen 25% since Richard Schulze announced a proposal to take the company private. The enterprise value for Best Buy is nearly one-fourth that of Dell, but concerns still exist over whether Schulze can raise the funds to pull off such a sizable deal.
Based on a quick LBO model the valuation only shows about 6% upside from the current market value, which is very generous in my opinion. Without the buyout there is little reason to own the stock.
Projected Fiscal Year
Less: Integration Costs
Less: Depreciation & Amortization
Plus: Depreciation & Amortization
Less: Capital Expenditures
Change in Working Capital
Unlevered Free Cash Flow
PV of Free Cash Flow
PV of Terminal Value
With revenue from the consumer business declining by 23% during 3Q and the shipments of computers down 21% for 4Q, Dell is looking to reinvent itself as a provider to corporations and governments. Both HP and Dell have been struggling of late with respect to earnings and declining sales.
5-Year Historical Revenue Growth
EPS Growth - Projected Most Recent Fiscal Year vs. Last Year
HP has been hit with an industry low valuation and one that is at a serious discount to Dell, but is this fair? HP has been more open about its problems and the near-term pressures, but if Dell has to go through its transition from a consumer-computer to a corporate-computer as a public company it could well see its multiples tank to HP levels. If this happens, Dell trading at a similar P/E as HP, 4.8 times price to forward earnings, would make it an $8 stock, and on a 0.28 times sales basis a $9 stock. Sanford Bernstein expects that Dell could be worth $12 per share on a sum of the parts basis, but the stock trades close to $13.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.